Bankruptcy Prediction of the Commercial Real Estate Sector

Abstract

This thesis aims to examine whether the increase in real interest rates after 2022 could

heighten the risk of bankruptcy within the Norwegian real estate market. We will utilize

Ohlson’s O-score, a well-established model for predicting bankruptcy, on our sample of

5,872 companies. In order to assess the impact of interest expenses on bankruptcy risk,

we first calculate the O-score for the 2022 sample as reported and then recompute it using

a dynamic approach that adjusts key financial ratios to simulate different interest rate

scenarios. To the best of our knowledge, this is the first study to employ this method.

Our findings suggest that the probability of bankruptcy rises significantly with higher

real interest rates from 6.7 %. While rising interest expenses increase bankruptcy risk

within the Norwegian real estate sector, our dynamic approach to Ohlson’s O-score model

implies the overall impact may not be extensive enough to warrant widespread concern.

Before adjusting interest expenses, our analysis shows that 3,865 companies, accounting

for 65.8 % of our sample, are at moderate risk of bankruptcy in 2022. Additionally, 324

companies are at high risk, with a probability exceeding 85 %. Our analysis also indicates

that after adjusting interest expenses most firms will fall below an interest coverage ratio

of 1, signaling issues in servicing their liabilities. In addition, firms with the highest 25 %

likelihood of bankruptcy show negative liquidity, as measured by cash flow from operations.

This is evident with reported data, and liquidity further deteriorates as interest expenses

increase. This suggests that the real estate sector in Norway may face a notable rise in

bankruptcies in the coming years.